Presentation on theme: "Topics To Be Covered 1. Introduction 2. Why Do We Have Inventories?"— Presentation transcript:
1 Topics To Be Covered 1. Introduction 2. Why Do We Have Inventories? 3. Objectives of Inventory Control.4. Requirements for Effective Inventory Management.5. Inventory Factors & Relevant Costs.6. Classification System & Order Size.7. Economic Order Quantity.8. Economic Production Run.9. Quantity Discounts.10. Fixed Order Quantity.11. Single Order Period Model.
2 Introduction TYPES OF INVENTORY: 1. Purchased Goods Inventory is a stock or store of goods or resources which is anticipated to satisfy a future demand.Independent Inventory: Finished goods that are ready for shipment to the next level customer. (end items)Dependent Inventory: Raw material, components and piece parts that are used in theconstruction of the final product.TYPES OF INVENTORY:1. Purchased Goods2. Partially completed items (WIP)3. Finished Goods3. Spare Parts4. General Supplies5. Raw Material
5 Why Do We Have Inventories? 1. To meet anticipated future demand. (Anticipated Inventory)2. Smooth demand for Production requirements- Seasonal change, work loads, retain stable workforce(Aggregate Plan)3. Decouple Operations- reduce dependency of one stage on another4. Protect against stock outs (Safety Stock)- delays in deliveries & unanticipated demand5. Take advantage of economic order sizes (EOQ); (Cycle Inventory)6. Hedge against price increases
6 Requirements For Effective Inventory Management Management has two basic functions with respect to inventory controla) establishment of an accounting systemb) decide how much and when to order ( quantity and timing)2. Inventory Accounting and Reordering Systema) Periodic vs ContinuousPeriodic (P) a physical accounting and ordering of inventory at specific intervals. (retail)Fixed Order Interval2) Continuous (Q) is a running account of inventory on hand and is replenished when a trigger point is reached. (Grocery)Fixed order QuantityHow does Inventory Management Help our Business?Video
7 Objectives of Inventory Control 1. Maximize the level of customer satisfactionright goods, on time in quantities desiredMinimize the cost of providing customer serviceCost of holding inventoryStruggle is to balance these objectiveDifficult because customer satisfaction is hard to quantify.The solution is in defining:a) timing of restocking (R)b) size of the order (Q)
8 Inventory Management Jobs Rapidly growing ammunition manufacturer is seeking an experienced, motivated professional to manage its inventory.Job Description follows: To manage the activities of the inventory control area and provide important support to the purchasing and sales departments of the company. This is a hands-on position that requires active involvement in plant operations and frequent, effective communication with all company departments. Among other responsibilities, the inventory control manager will:1. Accurately maintain computer records of all goods received and shipments made on a daily basis and all movements of inventory within the plant. Provide daily inventory reports to management.2. Actively manage the flow of raw materials inventory into production, as driven by work order releases. Oversee physical movement of materials. 3. Coordinate inventory located at offsite contractor sites.4. Conduct frequent cycle counts to verify accuracy of computer records; conduct a complete physical inventory count quarterly.Monster
9 Use of P or Q systems P System Q System When orders must be placed or delivered at specific intervals.Grocery storesWhen multiple orders must be ordered from the same source and delivered in the same shipment.For inexpensive itemsInventory level is not monitored closelyIssues:Increased inventory as it covers the lead time period.Q SystemUse when it is important to continuously track inventory.Use when ordering only a single part type.Use when items are expensive
10 Inventory Factors & Relevant Costs 1. DemandConstant vs VariableKnown vs unknown2. Lead Time3. Review Time4. Excess Demand5. Obsolescence & SpoilageRELEVANT COSTS1. Purchase Costs2. Holding Costs3. Ordering/Setup Costs4. Shortage Costs
11 General Inventory Graph (Instantaneous)Q = IMaxL<T: u * LROP =L>T: (n*T) u + u * LInvuROPLTimeTT: cycle time u: Period usage (daily)L: lead time Q: EOQ reorder sizeROP: Reorder Point
13 A-B-C Classification System Percentage of Total Inventory Value A-B-C Approach1) Identify the high dollar and high volume items2) Track those items which have the greatest impact3) Typically 5% of the inventory will represent 90% of the totalinventory costs.5%20%100%90%BCPercentage of Total Part numbersPercentage of Total Inventory ValueAA
14 Classification System & Order Size One - Bin SystemTwo - Bin SystemFixed Ordering TimeHOW MUCH TO ORDER:There are various methods to define the ordering size.Most all of them depend upon the relationship between the holdingcosts and the ordering costs.We will Discuss:- EOQ- Economic Production Runs- Quantity Discounts- Fixed Order Quantity- Single Period Model
16 Economic Order Quantity (EOQ) 1) Assumptionsa. Units are used at a constant rateb. Minimizes the sum of the annual holding and ordering costsc. Constant lead time and constant demand.d. No shortagese. Optimal ordering quantity is when carrying costs and ordering costs are at aminimum.2) Annual Total cost = ordering costs + holding costs + purchase cost= D *S Q * h C * DQa. EOQ EquationQ* = DShb. Based on relationship between holding and ordering costsc. h = i * c (fixed vs variable cost); i is the Cost of Capitald. Derived from finding min of total cost equation (calculus)
17 Economic Production Runs 1. When the part is produced inside rather than outside the firm.2. Assumes that demand for the part is being used at the same time that it isbeing manufactured.3. Works only when production rate is greater than demand.4. GraphToffTonI MaxRun time = Run size/Prod Run = Q runPInv Max = Run time * Prod rate - Run Time * Demand = [Q run ] (P-u) = Q run [1 - (u )]P PTotal Cost = setup cost + holding costs = D*S + (IC) Q run * (1-u)Q PRun Size = QRun = [ (2DS) 1/2 * ( P )1/2 ]h (P-u)
18 EOQ vs Prod Run u EOQ Production Run Inventory Inventory I Q* Direct Q* = ImaxImaxu / P1-(u / P)TimeTimeInventoryInventory1-(u / P)IQ*SourceSource100%uDirectUsageu / P
19 Examples EOQ Production Run A local distributor for a national tire company expects to sell approximately 9600 steel belted radial tires of a certain size and tread design next year. Annual carrying costs are $16 per tire, and ordering costs are $75. The distributor operates 288 days a year.1. Determine the EOQ.2. How many times per year does the store reorder?3. Determine the length of an order cycle.Production RunA toy manufacturer uses 48,000 rubber wheels per year for it's popular dump truck series. The firm makes it's own wheels, which it can produce at a rate of 800 per day. The toy trucks are assembled uniformly over the entire year. Carrying cost is $1 per wheel per year. Setup cost for a production run of wheels is $45. The firm operates 240 days per year.1. What is the optimal run size?2. What is the minimum total annual cost for carrying and setup?3. What is the cycle time for the optimal run size?4. What is the run time?
20 Quantity Discounts 1. The Quantity Discount Graph TC1 $ TC2 TC3 Used when the purchase price is dependent upon the quantity of a product ordered.The idea is to determine whether the cost of holding the larger amount in inventory is offset by thelower per unit cost and the possible lower ordering costs.The basic EOQ does not consider the purchase cost.1. The Quantity Discount GraphTC1$TC2TC3Objective:To minimize total annual costs2. Feasible Range: The range in which an order size can be placed and be purchased for the desiredprice.Q*1 Q* Q*3
21 Quantity Discount Method a) Compute the EOQcould be different for each price if holding cost is a function of price.b) Look to see if EOQ(s) fall within the feasible range(s).c) Compute the Total Cost for each price level.d) If the EOQ falls within the feasible range then use it in computing total cost.e) If EOQ is outside feasible range then use the lowest amount that can beordered and still receive this lower per unit price.f) Determine which price gives the lowest total cost.g) The optimal ordering size is the amount used in the calculation of thelowest total cost.
22 Quantity Discounts Example The maintenance department of a large hospital uses 816 cases of liquid cleanser annually. Ordering costs are $12, carrying costs are $4 per case a year, and the new price schedule indicates that orders of less than 50 cases will cost $20 per case, cases will cost $18 per case, cases will cost $17 per case, and larger orders will cost $16 per case.Determine the optimal order quantity and the total cost.
23 Reorder Point1. The reorder point occurs when inventory drops below a designated amount.2. As noted earlier the designated amount is defined by the review period.3. The reorder point takes into consideration:a. The degree of acceptable stockout risk c. Length of Lead timeb. The extent of demand and lead time variability d. Demand Rate4. We will consider four ROP casesa. Constant Demand Rate, Constant Lead timeb. Constant Demand Rate, Variable Lead timec. Variable Demand Rate, Constant Lead timed. Variable Demand Rate , Variable Lead Time5. Safety Stock and Service LevelService Level is the probability that demand will be met during the lead time.The amount of safety stock depends on:a) average demand & average lead time c) demand and lead time variabilityb) Assumes variability based on normal distribution d) desired service level
24 Reorder Point (con’t) Equations: FOQ Reorder Point Example: Variable Demand Rate, Constant Lead TimeROP = d * L + Z L dConstant Demand , Variable Lead TimeROP = d* L + Z d LVariable Demand & Variable Lead TimeROP = d * L+ Z (L 2d + d2 2L)FOQ Reorder Point Example:An automatic burner uses 2.1 gallons of oil per day. Lead time is normally distributed with a mean of six days and a standard deviation of two days. Determine the ROP to have a service level of 98 percent.How much of that quantity is safety stock?
25 Single Order Period Model 1. Used to when:- profit is significantly larger than penalty of a shortagebackorder is not allowedordering costs are not significantno lead time2. Can be used for both Continuous and Discrete Demand3. Examples are perishable products, limited useful life items4. Analysis of a single period focuses on two costs:Shortage (Cs)Excess (Ce)5. A shortage cost is a lost opportunity cost (profit)6. Excess cost is the wholesale price paid for the product less any salvage value.
26 Single Order Period Model 6. Objective: Identify the order quantity or stocking level that minimizes thelong run excess and shortage costs.7. Continuous Stocking Levelsa. assume demand is uniform and normalb. Q = d + Z * dc. From empirical data you know d(avg demand) and (variability of demand)d. The unknown is the Service level for that productSL = Cs / (Cs + Ce )e. Once you know SL then you can find Z from the normal distribution table.f. Stockout risk is 1 - SLg. If the stocking levels falls within a range then useQ = a + SL (b - a)(a) is the lower point of the range(b) is the upper point of the range8. Discrete Stocking Levelsa. Assumes that the stocking can only be in discrete units (1,2,3….)b. Calculate SLc. Define the Cumulative distribution for the discrete unitsd. Select the stocking level where the SL falls in the cumulative distribution
27 Single Period Examples Single Period Continuous ExampleSweet cider is delivered weekly to Pappy's Produce Stand. Demand varies uniformlybetween 300 liters per week and 500 liters per week. Pappy pays 20 cents per liter and charges 80 cents per liter. Unsold cider has no salvage value and cannot be carried over into the next week due to spoilage.Find the optimal stocking level and it's stock out risk for that quantity?Single Period Discrete ExampleHistorical records on the usage of spare parts for several large hydraulic presses are to be used as an estimate of usage for spares of newly installed press. Stock-out costs involved downtime expenses and special ordering costs. These average $4200 per unit short. Spares cost $800 each, and unused parts have zero salvage. Determine the optimal stocking level.# of spares used Relative Freq Cum Freq4 or more
28 Single Period Discrete 1.00.90.80.220.127.116.11.30.20.10SLInventory Level